a philosopher's sketchbook

How to Press Olives, Part Two

In part one of this series, I discussed some methods by which a poor Thales could accumulate the capital with which to rent all the olive presses in the area, cornering the market on olive oil production. However, monopolies are illegal and difficult to create in the current day, which raises the question, once a contemporary Thales raises his capital, what on earth is the guy supposed to do with it?

Like Thales’ character in Aristotle’s anecdote, we invest the capital. But since the olive oil market has expanded into a global monstrosity since the fourth century B.C. we need to find a different financial vehicle. No, we won’t be rolling in a drop-top ’64: classic cars are a bad investment vehicle. I’m a fan of boring vehicles, when it comes to finances.

I suppose, at this point, I ought to make the disclaimer: I am not a financial adviser. I am not offering professional advice, and I do not offer any information on this website as a suggestion on which people should act. Check out the Good Reads page, if you want actionable advice.

Stocks, bonds, real estate, and the riskier cousins of these asset classes, are the closest thing we’ll get to olive presses in this century. I suppose you could invest in olive orchards, if you want to get closer, but if you care to read a bit about diversification, you’ll hopefully see why that’s impractical for most individual investors. So, we’ve waded further into the dry desert of personal finance, to talk about stocks, bonds, and real estate. For anyone who hated their philosophy and their economics classes in college, stop reading right now — I may have alienated at least eighty percent of the English speakers on the planet by marrying these two subjects in one blog post.

If you really want to learn How to Press Olives, Part Two, read A Random Walk Down Wall Street. That will give you an in-depth primer in what to do with the pile of money you’re scraping together after you’ve read How to Press Olives, Part One. But since we don’t all have the drive or time to wade through nearly 600 pages of financial analysis, and since we don’t all think of charts and graphs as the same as “pictures” in a book, I’ll try to digest 600 pages into one blog post, starting now.

So, Thales lands in 2014 with his small pile of money that he accumulated in Aristotle’s story. He finds the olive oil market overwhelming. Where does he go? What does he do? If you’re like Thales, and you’re new to investing, start simple. Index funds are diversified investment vehicles, and they’re usually lower risk than related actively managed funds because they’re diversified across an entire asset class that they represent. I’ll leave it to Dr. Malkiel in A Random Walk… to explain the details of why index funds outperform other mutual funds, but for our Cliff’s Notes reduction, suffice it to say that index funds are the place to put your money in today’s investment landscape — at least until you plow through The Intelligent Investor, Security Analysis, and Margin of Safety. After reading those three books, you might try picking individual stocks, but don’t expect to beat your index fund portfolio.

We’ve established that Thales, and you, ought to invest in index funds, but which funds do you buy with your money? There are dozens of options. Fortunately, picking an index fund is easy: 1) Choose your asset class, e.g. what kind of asset do you want to buy? 2) Find the index fund with the lowest expenses for that asset class. 3) Buy that index fund. William Bernstein has a “No Brainer” portfolio that has performed surprisingly well for as naive as its asset allocations appear to be. The No Brainer portfolio is only .09% behind the S&P500 index over a 10 year period. What is this portfolio? 25% of your money in the following four index funds: the S&P 500, U.S. small cap stocks such as the Dow Jones Total Stock Market Completion Index (DWCPF), the MSCI EAFE International Large Cap Stock Index, and a 5-year bond index. Bernstein recommends this portfolio in the opening pages of his book, The Intelligent Asset Allocator. It’s on my good reads page for a good reason. Check it out when you get A Random Walk from the library. They’re a nice pair.

A note about mutual fund expenses, you’ll find many folks touting the virtues of Vanguard’s index funds, and they’re generally very good. The company’s business model is admirable. However, Fidelity also has many low-cost, no load index funds. Either company will serve you well, and there may be other low-cost index funds or ETF’s out there that I’m not aware of, so do your own research as well. Leave a comment if you’ve found funds that are lower than those of Vanguard or Fidelity.

In the third part of this series we’ll cover managing investments and spending them. With these three parts, you’ll have the rudimentary tools you need to accumulate, invest, and use your capital to live the Good Life. Although, I highly recommend further research. These posts are far from exhaustive on the topic.